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Investors want greater board responsibility and accountability in key areas, 5th annual EY global hedge fund survey finds

Press Release   •   Nov 29, 2011 09:37 +08

  • Untapped potential in emerging Asia-Pacific hedge fund markets
  • Perceptions among investors and managers differ on some key aspects related to governance, fund expenses, administration, succession and capital raising
  • Asia managers need to review succession planning strategy

Global hedge fund managers and investors agree on key industry issues, but disagreement still exists in some important areas, according to Ernst & Young’s fifth annual survey of the global hedge fund market.

The report, which juxtaposes the views of managers and investors, indicates that the two groups differ on some important matters such as governance, fund expenses, administration, succession and capital raising.

  • Governance. Only 45% of investors said that their funds' Boards of Directors are very effective at carrying out their duties to funds, while almost 70% of managers feel the board is very effective.
  • Fund expenses. Seventy-six percent of investors want shadow accounting, but only 35% are willing to pay for it.
  • Administration. Three-quarters of investors said it is important that a hedge fund completely outsource valuation to an administrator, but 71% of managers perceive risks in this.
  • Succession. Two-thirds of investors feel that having a well-articulated succession plan is important to their investment decisions, while only 38% of managers agree.
  • Capital raising. There appears to be a lack of clarity between investors and managers about the loss of mandates. Almost 40% of managers say they do not really know why they lost a mandate. Investors point to concerns about risk management policies, inconsistency of information presented and lack of independent Board or administration.

The findings in the report, Coming of Age, were compiled by consulting firm Greenwich Associates for Ernst & Young. This year’s study polled 92 hedge fund managers who manage some US$600 billion, and 42 institutional investors with over US$130 billion allocated to hedge funds.

Mr. Ratan Engineer, Global Leader of Ernst & Young’s Asset Management practice, says: “The recovery of the hedge fund market has been encouraging, but as the industry comes of age, investors are getting increasingly interested in governance and supervision where there remain considerable gaps in perception and in reality. To continue satisfying investor demands and foster compliance, we need to ensure that hedge fund investors and managers are on the same page.”

Untapped potential in emerging Asia-Pacific hedge funds markets.
On the Asia-Pacific hedge fund markets, Brian Thung, Asean and Singapore Asset Management Leader for Ernst & Young, explains that most of the investments in the region come from the US and Europe, but a significant portion originated from Asian institutional investors. Hong Kong and Singapore as matured Asian financial centers for the hedge funds industry continue to attract many foreign investment players to their markets, opening the door for foreign fund companies with easy access into the Asian market.

Recent regulatory change in Korea will see rapid growth of hedge funds and their associated services, such as prime brokers. Prime brokerage provides comprehensive services for the hedge funds, including financing, share borrowing, custody, clearing and reporting. “Where there is considerable wealth, there will be a market for hedge funds. The question is - what will the regulators and the legislators allow.” says Brian Thung.

Under the new regulation in Korea, individual investors will be allowed to directly invest in hedge funds, with a minimum investment requirement set at 500 million Korean won. The revision provides more opportunities for hedge fund investors as well as managers.

Taiwan has a friendly regulatory environment allowing room for investors as well as managers.

Perceptions among investors and managers differ
Despite several opinion gaps, investors and hedge fund managers agree on several issues, including their top concern: the impact of regulation, which is cited as the chief worry of 48% of hedge fund managers and 36% of investors.

Some key findings from the report are as follows:

Succession planning
Managers underestimate the importance to investors of a clear succession strategy. Nearly twothirds of investors said having a well-articulated succession plan is important to their comfort level. However, only 38% of managers said they thought a well-articulated plan is important to retaining investors. Correspondingly 39% of managers said they have a well-developed succession strategy, while 50% of investors said they are confident with their hedge funds’ succession strategies.

Hedge funds and investors view loyalty differently. Over half of managers believe investor loyalty lies with the founding principals. However, 55% of investors say their primary loyalty is to individual portfolio managers, rather than the firm or the founding principals.

Investors are more likely than hedge fund managers to want founding principals to increase their equity stakes. Eighty-three percent of investors say they want founding principals to have “skin in the game” and leave significant assets with the fund upon transition. However, 60% of managers say the same, instead focusing on positioning certain professionals as the face of the firm, which is important to only 17% of investors.

In Asia, succession planning takes a backseat among the managers. Only 29% of managers place importance in succession planning, and of them, only half of them have a well-developed succession strategy. On loyalty, the bulk (80%) of Asian managers, against the global average of 52%, believe that investor loyalty lies predominantly with the founding principals. Brian Thung explains: “These findings suggest that Asian managers have a shorter history and many have just gone past their start-up phases. The investors’ views should provide food for thought in terms of succession planning.”

Although managers and investors agree that independence is important for good governance, investors remain wary of boards’ effectiveness. Sixty-eight percent of managers say the board of directors is effective in carrying out its duties, but only 45% of investors agree. Three-quarters of managers say the board is accountable to investors, but only 38% of investors say the same.

In Asia, it’s a similar story. The managers display strong confidence with 85% of them agreeing in the board’s effectiveness in carrying out its duties. Eighty-five percent of the managers say that the board is accountable to investors.

Investors want greater board accountability; they desire board responsibility for investment guideline compliance (36%), reviewing and approving NAVs (29%), resolving disputes over valuations (19%) and setting risk policies and thresholds (38%). However, most managers (69%) say that they, rather than the board, currently have responsibility and accountability for compliance with investment guidelines, and 72% say they establish overall risk policy and thresholds.

Brian Thung says: “Investors still feel their Boards are most interested in serving the interests of managers, rarely challenging them on issues that really matter to investors such as valuations, risk and style drift. There is a need for a closer consensus with Boards acting neither as lap dogs nor dictators to the managers.”

Fund expenses
Higher costs for compliance, regulatory reporting and other infrastructure items coupled with the increased trend of outsourcing and extensive shadowing have resulted in margin compression across the industry. Hedge funds are increasingly evaluating how expenses should be shared between the investment manager and the fund. However, managers and investors differ on what costs should be passed through. While the majority of investors agree that it is important to perform shadow accounting, almost two-thirds of investors object to passing on the cost of shadow accounting; yet, more than one-quarter of managers said that they currently pass on these costs.

Fee and margin pressures are also causing more managers to offer graduated fees in return for larger mandates. More than twice as many hedge funds as last year say they have offered graduated fees for larger mandates.

Brian Thung adds: “We see in these survey results a definite call to action for hedge fund managers to align their fund expenses to what investors expect and are willing to pay.”

Nearly all managers use administrators in some capacity, and nearly two-thirds of both groups agree that administrators have a positive impact on investor confidence. However, a majority of investors (74%) said it is important that managers completely outsource valuation to an administrator, but most managers (71%) perceive risks in fully outsourcing this function. Despite this, just one in four managers or investors is confident that administrators can accurately value Level 3 assets.

Shadowing is prevalent, and is often deemed to be a necessity – 76% of investors cite it as important. However, in many cases shadowing results in a replication of the work that administrators are performing, which then requires reconciliation between the fund’s and the administrator’s systems.

Brian Thung notes: “The findings reveal a significant duplication of efforts and a business model that is expensive and unique to the hedge fund industry. Over the long term, hedge funds will likely re-examine their shadowing activities and begin to create a control environment that takes advantage of the administrator’s strengths while building in controls to address any shortcomings.”

Capital raising/due diligence
Due diligence processes have changed. While long-term investment performance remains a priority, investors say they are more concerned with operational due diligence and internal controls. Nearly two-thirds of investors say that the most important criterion when selecting a manager is the portfolio management team. Yet only half of managers feel the same. Managers instead identify long-term performance as one of the most important criteria (72%), but only 43% of investors agree.

Brian Thung says: “Many managers feel they are not getting a straight answer when an investor passes on a mandate, leaving them guessing at the reasons. There is a significant opportunity to improve communications so managers can better provide investors with the information they need to make good decisions. Considering the results of the survey, we note that those managers that listen to their investors by planning for succession, solidifying a sustainable franchise and developing an effective operational infrastructure to meet investor and regulatory demands around risk management and corporate governance will have an edge in the race to raise funds.”

For the full report, please visit

About the survey
Greenwich Associates interviewed 92 hedge funds representing nearly US$600 billion in assets under management, and the views of 42 institutional investors representing US$1 trillion in assets under management. The objective of the study was to record the views and opinions of hedge funds and hedge fund investors globally, measure the views of each on the same topics and examine the two groups together. Hedge funds and hedge fund investors were asked to comment on succession planning, governance, administration, fees and expenses, capital raising, due diligence and the future landscape.

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